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Inside the Market’s roundup of some of today’s key analyst actions

Concerns for the Canadian insurance sector are "plentiful" ahead of first-quarter earnings season, according to Desjardins Securities analyst Doug Young.

"In 1Q20, lower interest rates and equity markets will weigh on headline and core earnings," he said in a research note released Tuesday morning.

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“Over the next few quarters, we foresee higher credit losses and higher group disability claims in Canada. That said, we do not believe the core franchises have been tarnished and we expect regulatory capital (LICAT) to hold up in these turbulent times.”

Mr. Young trimmed his earnings expectations for both the first and second quarters by an average of 12 per cent.

At the same time, he increased his 2021 expectation by an average of 10 per cent, seeing " a more normal environment to materialize and some of the drivers of core earnings to resurface for each of the lifecos."

The analyst said: “Several items impacted 1Q20 headline earnings, by our estimates: (1) equity market decline (negative); (2) lower government bond yields (negative); (3) widening corporate spreads (positive); (4) shift in swap spreads (positive); and (5) steepening Canadian and US yield curves (positive for SLF, negative for MFC). First, equity markets declined 18.7 per cent on average across all regions we track, with the most important index for lifecos, the S&P/TSX, declining 21.6 per cent. Second, government bond yields in both the U.S. and Canada decreased sequentially; however, the shift in the yield curve was not parallel, which could skew actual results vs our expectations (sensitivities provided are based on parallel changes). U.S. 10- and 30-year Treasury yields decreased 125 basis points and 107 bps, respectively, and Government of Canada 10- and 30-year yields decreased 101 bps and 46bps, respectively. U.S. 30-year corporate spreads widened by 99 bps (a positive) and swap spread movements had a positive impact.”

With those changes to his near-term projections, Mr. Young reduced his target prices for stocks in the sector. His changes were:

  • Sun Life Financial Inc. (SLF-T, buy") to $59 from $61. The average on the Street is $59.18.
  • Manulife Financial Corp. (MFC-T, “buy”) to $23 from $25. Average: $26.33.
  • iA Financial Corporation Inc. (IAG-T, “buy”) to $55 from $63. Average: $63.30.

He maintained a $27 target for shares of Great-West Lifeco Inc. (GWO-T, “hold”), which falls short of the $30.45 consensus.

“At the end of the day, the quarter is backward-looking,” said Mr. Young. “The focus will be on what management is seeing in April and May, especially in Asia, and the near-term outlook under the cloud of COVID-19. With that said, 1Q20 was a tough period, as lifeco stocks were down 30.3 per cent on average, underperforming both the S&P/TSX (down 21.6 per cent) and S&P/TSX Financials sub-sector (down 21.9 per cent).”

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Morneau Shepell Inc. (MSI-T) offers investors “attractive defensive characteristics that should appeal in the current market context,” BMO Nesbitt Burns analyst Nik Priebe.

He initiated coverage of the Toronto-based human resources services and technology company with an "outperform" rating.

"The company's recurring revenue profile, highly diversified client base, and resiliency to economic shocks should support earnings stability through a tumultuous economic period," he said.

"Our analysis shows that organic revenue growth actually accelerated in late 2008/early 2009, owing to the countercyclical demand for certain service offerings (e.g., consulting/actuarial work, insolvency practice, and higher utilization of the Employee and Family Assistance Programs)."

Mr. Priebe set a $37 target, which exceeds the current consensus of $36.75.

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Equity analysts at Canaccord Genuity expects the appeal of gold producers to rise as central bank balance sheets and government debt levels swell.

In a research note previewing first-quarter earnings season for precious metals producers, Carey MacRury, Dalton Baretto, Tom Gallo and Kevin MacKenzie emphasized the reflation trade for gold equities continues amid the uncertainty stemming from COVID-19, noting it was the best quarter for gold prices in seven years.

“In our view, gold is one of the first asset classes that responds to changes in monetary policy,” the analysts said. "On the back of substantial action by the Fed, with a return to 0-per-cent rates and $1.8 trillion in asset purchases in the past month, gold is now up 11 per cent year-to-date. Gold stocks meanwhile are up 1 per cent year-to-date but are up 42 per cent off of their March 13 low as inflation expectations have been rebounding.

“As we noted, the other lesson we draw from the global financial crisis that we believe will start to come into focus once the COVID-19 panic subsides is the level of central bank balance sheets and government debt. The U.S. went into the global financial crisis with a debt/GDP ratio of 62 per cent and came out at 100 per cent by 2012 and still continues to rise. With the ramp-up of trillion dollar stimulus packages, it seems like debt levels are poised to soar again. Similarly, the Fed’s balance sheet in 2007 was $850-billion, which then soared to $4.5-trillion. The same pattern occurred over most of the developed world. We think gold is very well positioned against rising global debt levels, zero to negative interest rates, and with very limited supply in contrast to fiat currencies. The $10-trillion of negatively yielding debt globally (let alone negative in real terms) reminds us of Jim Grant’s phrase of ‘return-free risk’ against which we believe gold is a sound alternative.”

In the report, the firm raised its price deck for gold by 5 per cent and set a new long-term projection of US$1,716 per ounce, up from US$1,631 previously.

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At the same time, its silver deck slid by 20 per cent with a new long-term price of US$15.60 per ounce (from US$19.50.)

“A key focus for investors will be on better understanding the potential impact of COVID-19-related suspensions or reduced operations,” the analyst said. “We don’t expect there will be a definitive answer as the COVID-19 situation continues to evolve with several lockdowns being extended. We do expect mining to largely resume at some point as an essential service and economic activity with additional safety protocols put into place. We note that Argentina has recently allowed mining to resume. As we’ve noted, we believe that most gold producers are well positioned to weather COVID-related shutdowns with healthy FCF at current gold prices and strong balance sheets.”

After making adjustments to its target prices to account for the price deck changes, Mr. Baretto made a pair of rating changes:

Coeur Mining Inc. (CDE-N) to “hold” from “buy” with a US$3.50 target, down from US$5. The average on the Street is $6.17.

Hecla Mining Co. (HL-N) to “sell” from “hold” with a US$1.50 target, down from US$3. Average: $3.31.

The firm's changes to senior producers were:

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  • Newmont Corp. (NEM-N, “buy”) to US$64 from US$56. Average: US$56.67.
  • Barrick Gold Corp. (ABX-T, “hold”) to $34 from $28. Average: $22.72.
  • Agnico Eagle Mines Ltd. (AEM-T, “buy”) to $86 from $82. Average: $60.17.
  • Kirkland Lake Gold Ltd. (KL-T, “buy”) to $58 from $53. Average: $60.09.
  • Kinross Gold Corp. (K-T, “buy”) to $11 from $9.25. Average: $8.71.
  • Pan American Silver Corp. (PAAS-Q, PAAS-T, “buy”) to US$23.50 from US$26. Average: US$23.34.
  • Yamana Gold Inc. (YRI-T, “buy”) to $7 from $6.50. Average: $6.
  • B2Gold Corp. (BTO-T, “buy”) to $9 from $7.50. Average: $6.78.

Its top picks in that group are:

Kinross: “Kinross is one of our top picks among the senior producers on improving FCF, a strong balance sheet, inexpensive valuation and leverage to gold. We expect Kinross to generate more than $600-million in FCF this year, its first significant year of FCF since 2017. We forecast FCF to continue to grow into 2021 on lower capex as the company completes a heavy year of stripping at Tasiast in 2020.”

B2Gold: “B2Gold is one of our top picks among the senior producers on strong FCF generation, a strengthening balance sheet, exploration potential and organic growth opportunities at Fekola and Gramalote. The company is one of the lower cost senior producers with a $800 per ounce AISC [all-in sustaining costs] with 2020 production growth forecast at 20 per cent (excluding the Nicaraguan assets sold to Calibre Mining). With high AISC margins, BTO is a strong FCF producer; we expect FCF to increase 80 per cent in 2020 and we expect the company to be in a net cash position this year.”

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Advantage Oil & Gas Ltd.'s (AAV-T, AAV-N) plan to sell a stake in its Glacier Gas Plant puts in a strong relative financial position compared to peers and also provides the market “with a relevant metric to underscore the company’s considerable infrastructure value and the ability to crystallize this, should the company choose to,” said Raymond James analyst Chris Cox.

Before the bell on Monday, Calgary-based Advantage announced a deal with an unnnamed strategic partner for a 12.5-per-cent interest in the facility, which all production from its Montney assets, for $100-million. The company will also enter into a 15-year volume commitment agreement with the purchaser for 50 million cubic feet per day at a fee of 66 cents per thousand cubic feet.

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Mr. Cox said the sale provides “attractive” terms for Advantage, prompting him to raise his rating for its stock to “outperform” from “market perform.”

“While we see relatively limited risk to the company’s current $400-million credit facility - which, is currently under review by the lending syndicate - the additional proceeds nevertheless put the company in an advantageous position of having relatively greater financial flexibility vs. peers, and should ensure the company can keep D/CF [debt-to-cash flow] below 2.0 times,” he said.

“While specific details were not provided, Management noted that the company will be revising its second half drilling program to optimize returns, given the significant changes in pricing, including an improving outlook for gas. Of note, discretionary spending at Wembley & Progress has been deferred, which we view as prudent, with liquids driving the bulk of the returns for these plays. This will delay the company’s transition to a higher liquids weighting, while putting the company in a better position to capitalize from a potentially bullish gas macro into 2021. In passing, the company provided an initial 30-day rate for the 16-36 well at Progress; the well saw a restricted rate of 2,150 barrels of oil per day (more than 50-per-cent liquids), which we view as encouraging and corroborating the early promise from initial test results back in September.”

Mr. Cox raised his target for Advantage shares to $2.50 from $2. The average target is currently $2.73.

“Supporting our upgrade is an improving outlook for natural gas prices into year-end, as we believe the significant declines in North American oil supplies will lead to a supply shortage for natural gas into the winter, with Advantage well positioned to benefit, should gas prices improve materially,” he said.

Elsewhere, RBC Dominion Securities analyst Michael Harvey said the deal allows Advantage to maintain its balance sheet strength while emerging from the current energy downturn in “a position to more successfully capitalize on any potential opportunities.”

Keeping a “sector perform” rating, he raised his target for the company’s shares to $2 from $1.50.

“The move to crystallize facility value and improve liquidity makes sense to us in the current market, particularly given the upcoming redetermination of credit facilities,” he said. “We foresee reduced capital investment in 2020, and potentially a tilt toward dry gas and reducing liquids investment given where current commodity prices sit.”

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Pointing to a “lower for longer corn price scenario and related negative impacts on farmer cash flows and capex,” Citi analyst Timothy Thein downgraded Deere & Co. (DE-N) on Tuesday, expecting its stock to be range-bound in “what has historically been a more challenging (seasonal) time of year.”

Mr. Thein said the move is rooted in the demand “destruction” seen in the U.S. ethanol market due to both COVID-19 and the price war in oil.

"The negative impact on ethanol demand is occurring just as a significant amount of beef and pork processing plants are being temporarily shut, resulting in a potential 10-per-cent hit to 2021 CBOT corn prices," said the analyst. As it relates to our coverage, we expect this lower outlook for corn prices to weigh on ag equipment demand. The timing is unclear, and won’t be felt evenly across equipment categories, especially given the role of pre-sell programs. For example, a large percentage of new combines that will be sold in calendar 2020 have already been 'booked' as a result of DE’s active pre-sale programs. We also note that from the perspective of downside risk, our estimate of 2020 combine and 4WD tractor sales is in-line with the low end of our estimated replacement requirement range.

"This is not to say the markets cannot over-shoot to the downside, but given the low absolute level of industry retail sales, and our estimate of underlying replacement demand, we see the absolute level of downside in large ag to be somewhat modest from here. We lowered our forecast for small ag demand in North America as well as we reflect lower housing activity and a more cautious overall consumer outlook."

Mr. Thein emphasized the historic link between corn prices and Deere's stock price, suggesting it's been the largest factor in many instances.

"While we admit it is difficult to pinpoint the demand reduction, lower on-farm cash receipts are a clear negative for ag equipment demand," he said.

Mr. Thein lowered his 2020 earnings per share estimate to US$7.35 from US$7.60 and said he now assumes "a more gradual earnings ramp in FY21 given our expectation for a muted Ag & Turf rebound."

Moving the stock to "neutral" from "buy," he also trimmed his target for Deere shares to US$155 from US$160. The average on the Street is US$168.59.

“We remain constructive on the company’s competitive positioning within its core Ag equipment markets, and believe Risk/Reward is relatively balanced at current valuation and thus downgrade from Buy to Neutral,” he said.

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Hexo Corp.'s (HEXO-T) $46-million underwritten public offering provides near-term financial relief, said Desjardins Securities analyst John Chu.

However, he expects further dilution in the coming months.

“As part of HEXO’s amended covenants, it was to have commenced an ATM by April 10 or raise $15-million in equity,” the analyst said. “Despite HEXO indicating that the ATM could commence the week of April 6, there has been no indication of progress being made. HEXO therefore likely needs to raise an additional $9-million in equity by April 30, and likely at similar/lower terms. Our understanding is that the ATM is based on the market cap as of the end of February 2020 ($400-million) vs currently ($200-million), which suggests it can raise a maximum of $40-million through the ATM (or 10 per cent of its market cap).”

He also expressed concern over the impact of headwinds stemming from COVID-19, noting: “Ontario recently revised its list of essential businesses and excluded commercial construction, which we suspect impacts HEXO’s completion of its Belleville facility and ramp-up thereafter. We also do not believe its Gatineau facility has sufficient capacity to produce meaningful volumes; HEXO may thus need to resort to lower-margin third-party manufacturing. Also, data from the U.S. suggests that consumers are switching more to edibles from dry flower given health concerns arising from COVID-19. We therefore have increasing concerns that HEXO, once viewed as an ‘edibles front-runner’, is continuing to fall behind, which may impact its financial flexibility near-term.”

Keeping a “hold” rating for Hexo shares, Mr. Chu lowered his target to 90 cents from $1.40. The average is $1.38.

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Credit Suisse analyst Dan Levy upgraded Tesla Inc. (TSLA-Q) on Tuesday, seeing it “better positioned” amid coronavirus “upheaval.”

"It competitively has more edge in the transition to EV as coronavirus disruption will make it more difficult for legacy automakers to balance the long-term shift to EV in the face of near-term cycle disruption," he said.

Mr. Levy sees the transition to EV remaining intact, while legacy automakers are being forced to make "tough" decisions, which will ultimately benefit Tesla.

"In our ‘Two Clocks’ framework the auto industry is facing a challenge in balancing the ‘near’ (cyclical) with the ‘far’ (secular)," he said. "We believe coronavirus disruption makes that balance all the more difficult: 1. Even pre-coronavirus legacy OEMs faced challenge in the transition to EV from combustion, with EV margin dilutive; 2. Long-term EV penetration intact, yet Tesla’s competitive advantage in EV world increased as coronavirus disruption forces OEMs to make tough choices in product investment; 3. Tesla advantages intact – battery lead, improved liquidity, and signs of improvements in execution."

"Near-term though, Tesla may face risks – demand is expected to soften in 2Q, and Tesla could see supply shortages if the shutdown lasts until June; we estimate the Fremont shutdown driving $300 million or more per week of cash burn. We cut our 2020 deliveries forecast to 400k vs prior 550k. A weak datapoint could be one of the first soft datapoints the stock has seen in a while."

Moving it to "neutral" from "underperform," Mr. Levy raised his target for Tesla shares by US$165 to US$580. The average is US$452.33.

“We are already giving Tesla credit in a variety of ways – volume growth to 1.2 million units by 2025 (making it the clear #4 global luxury brand behind the German brands), solid margin expansion, a 2025 PE multiple of 18 times (far more than other auto co’s), and upside optionality via ‘Bull’ and ‘Uberbull’ cases. For upside, one must believe in additional volume, margin, or multiple,” he said.

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In other analyst actions:

* BMO Nesbitt Burns analyst Tim Casey raised his rating for Telus Corp. (T-T) to “outperform” from “market perform” with a target of $26.50. The average on the Street is $26.16..

"We believe TELUS’s business offers an attractive mix of relative stability during the prevailing economic slowdown and differentiated growth opportunities in a recovery over the next few years," said Mr. Casey. "Its core wireless and broadband businesses are mission-critical services to customers."

“The company has a stable balance sheet with ample access to capital. We expect dividends will be paid during the COVID-19 pandemic.”

* CIBC World Markets analyst Hamir Patel lowered Cascades Inc. (CAS-T) to “neutral” from “outperformer” with a $15 target, up from $14. The average is $13.67.

Mr. Patel said: “When we previously upgraded CAS in our 2020 Outlook on Jan. 11, we highlighted the company’s leverage to low recovered paper prices (then $24/ton for OCC and $86/ton for SOP), as well as the unusually large discount (3.1 times gap on 2021 estimate EV/EBITDA) the shares were trading compared to International Paper. With Cascades up 23 per cent over the last three months (vs. the 18-per-cent decline in the TSX Composite and 22-per-cent drop in IP), the valuation gap with U.S. peers has narrowed. At the same time, the steep decline in wastepaper generation across North America (down up to 50 per cent in some municipalities in the U.S.) has driven CAS’ input costs up sharply in recent weeks, with OCC surging 60 per cent month-over-month last week to $71/ton, SOP rising 42 per cent month-over-month to $138/ton and $20-$30/tonne pulp pricehikes underway this month in China (which sets the tone for global markets). While we expect these input costs for wastepaper to moderate by year-end, the company will see some margin pressure from input costs in coming quarters. At the same time, we expect containerboard prices to erode by an additional $35/ton by the end of Q3.”

* National Bank Financial initiated coverage of GFL Environmental Inc. (GFL-T) with an “outperform” rating and $30 target. The average on the Street is $24.67.

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